Accounting for growth: Minnesota’s slowing relative growth

In American Experiment’s 2021 report “The State of Minnesota’s Economy: 2020 — A focus on economic growth,” we wrote:

What matters for economic welfare is per capita income. This is a general measure of welfare, telling us how much per person is available to be consumed, invested, or put to some other use. If we want to increase economic welfare, we should pursue policies that increase per capita incomes. A doubling of total [Gross Domestic Product] GDP, if it is matched by a doubling of the population, will leave the average member of the population no better off.

Given its importance, Minnesota’s recent record on per capita GDP growth is concerning. As Figure 1 shows, Minnesota has long been able to boast a per capita GDP above that of the United States generally, a “premium” for living in the state. In 2004, this premium was $4,973 per Minnesotan, and as recently as 2014, it was $4,669, or $18,676 for a family of four. Since 2014, however, this premium has fallen every year and was down to just $435 in 2023. In quarterly data, the premium disappeared completely in the first half of 2024.

Figure 1: Minnesota’s ‘Premium’ in Per Capita GDP Over the United States, $2017

Minnesota’s advantage over the United States’ average in per capita GDP has disappeared because in every year since 2014, its per capita GDP growth has been slower than that of the United States generally, as Figure 2 shows. While Minnesota’s real per capita GDP growth rate was higher than that of the United States (highlighted in blue) in 10 of 17 years up to and including 2014, it has been below it (highlighted in red) in each of the nine years since. Only Wisconsin can match Minnesota’s record of lagging the national growth rate of GDP per capita in every single year since 2014.

Figure 2: Growth of Real Per Capita GDP in Minnesota Minus Growth of Real Per Capita GDP for the United States, Percentage Points

This didn’t happen because Minnesota’s average annual rate of per capita GDP growth fell. Minnesota’s average rate of per capita GDP growth increased from 0.8% annually from 2008 to 2014 to 1.1% from 2014 to 2023. However, the rate for the United States increased from 0.6% to 1.9%, as Figure 3 shows (the reason for choosing these periods will become apparent). Looking at the longer periods 1997 to 2023 and 2008 to 2023, we see Minnesota’s rate of per capita GDP growth lagging the national rate is nothing new, but the deficit in 2014-2023 is especially large: 0.8 percentage points annually. If this gap was maintained over 10 years of growth, it would mean total GDP per capita growth for the United States 2.5 times greater than for Minnesota.

Figure 3: Average Real Growth Rate of GDP Per Capita

Minnesota’s decline relative to the United States isn’t just driven by a handful of high-performing states. Figure 4 shows the ranking of Minnesota’s mean, real per capita GDP growth among the 50 states in four time periods. In 2008-2014, Minnesota’s rate ranked 17th out of 50 states, but this fell to 37th in 2014-2023, even as the rate itself rose.

Figure 4: Ranking of Minnesota’s Mean, Real Per Capita GDP Growth

What accounts for Minnesota’s relative slowdown? To answer this, we need to examine the components of real per capita GDP growth.

In our 2021 report, we wrote:

Per capita economic growth comes from three sources…These are an increase in the amount of labor provided by a given population…; growth of capital per worker (the tools those workers have to work with); and Total Factor Productivity (“The effectiveness with which factors of production are converted into output”), which is also known as Technology (“the way inputs to the production process are transformed into output”).

These three sources can be labelled “human capital” (H), “physical capital” (K), and “Total Factor Productivity” (TFP).

Determining how a country or state is performing with regard to these sources is vital for identifying policies that will boost real per capita GDP growth. Policies that increase employment or skills raise human capital; policies that stimulate increased capital investment elevate the amount of physical capital; and policies that spur increased innovation and entrepreneurship catalyze TFP growth.

Economists use a technique called “growth accounting” to break down the observed rate of change in real per capita GDP, such as those shown in Figure 3, into the shares derived from changes in human capital, physical capital, or TFP. These exercises are common at the national level, where estimates of human and physical capital are readily available, and the contribution of TFP can be calculated as the residual.

However, in his book Fully Grown: Why a Stagnant Economy is a Sign of Success, in which he performs a growth accounting exercise for the United States, Dietrich Vollrath writes: “At the state level, I don’t have enough data to calculate a residual productivity number, as detailed human capital and physical capital data is not available.” In our new report, “Accounting for Growth: Measuring the sources of per capita economic growth at the state level,” we adapt Vollrath’s growth accounting method and draw on the work of Makram El-Shagi and Steven Yamarik to construct estimates of human and physical capital at the state level. This, in turn, will allow us to calculate TFP — the residual — and perform a growth accounting exercise for the 50 states.

Over the next few weeks, I’ll explain how these estimates were constructed, what they show us, and what this means for Minnesota.